Most Americans take out loans at some point in their lives- whether it’s to buy a house or to grow a small business. Even nonprofit organizations commonly apply for loans. Yet just because other nonprofits have debt doesn’t mean your organization should take out a loan- at least not before performing thorough due diligence. Here are some factors to consider.
What are the risks and rewards?
The primary drawback to a loan is that you must pay it back. In addition, you’ll have to pay interest. And rates for nonprofits tend to be higher than those for businesses, because nonprofits often don’t have comparable financial resources and are, therefore, considered riskier by lenders. Expenses associated with certain loans- for example, for appraisals, closing costs and attorneys’ fees- may add up quickly, and your nonprofit may be required to make a significant down payment. On the other hand, once you’re approved for a loan from a reputable lender, you know you’ll get the funds. Applying for a loan may require less time and effort than applying for grants, holding fundraising events or wooing major donors. Chances are you’ll get the money sooner, too.
What type of loan should you consider?
Many nonprofits operate in environments where revenues peak and dip throughout the year. Bills and expenses may not correspond with this cycle, though, which can lead to cash flow crunches. For example, nonprofits often see a big jump in donations around year end or receive grants in lump sums. A revolving line of credit may be a suitable type of loan to provide needed liquidity in these situations. Cash flow issues also can arise less predictably. A previously reliable funding source might dry up with little to no notice. Or a natural disaster could hit at a time when cash reserves are low. In such circumstances, you may want to consider a bridge loan, typically lasting no longer than one year. Bridge loans are used to fill a funding gap until more permanent financing is secured. Longer-term loans can be an option for capital purchases (for example, equipment or facilities upgrades) or projects such as a new building. You may intend to finance the project with a capital campaign. However, campaigns can take longer than anticipated, and pledges might not materialize. A longer-term loan can help you avoid delays as the project progresses. Similarly, you can come across mission- or operations- related opportunities that require prompt action. Perhaps office space you’ve had your eye on suddenly becomes available, or you encounter an attractive strategic opportunity. Bridge loans or longer-term loans may prove useful to finance these opportunities.
What’s in the application?
To increase your odds of securing a loan quickly, collect necessary information before reaching out to lenders. Lenders generally want to see your plans for the loan proceeds. They’ll require you to provide several years of tax filings and audited financial statements; reports of pledges, receivables, accounts payable and outstanding debt; and a description of major funding sources. You’ll also need to provide a board resolution approving the loan. Additionally, you may need to submit information about your organization’s history (including articles of incorporation and bylaws), short- and long-term strategic plans, programs, funding, a list of management, and a list of the board of directors. Finally, prepare cash flow projections showing a repayment plan.
Whatever you do, act prudently
Whether your nonprofit needs to borrow money to maintain status quo or to take on a new project, know that securing a loan can be difficult and may require you to be persistent and tenacious.
If you’re able to get a loan, make sure to maintain excellent records and carefully manage your financial resources. Of course, loans aren’t the answer to every cash gap. If you’ve been running a budget deficit for several years, adding debt usually isn’t advisable. Even if you can obtain a loan, the interest rate likely will be high. You’re generally better off reducing expenses and raising revenue.